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Weaker Dollar, Higher Dividends

By Benjamin Shepherd on April 7, 2016

While the U.S. economy generally appears robust – hiring is up, unemployment is down and wages are rising – corporate profits have been in a drought for two quarters now. So much so that some analysts are saying that we’re in a profit recession. According to data from the Commerce Department, profit at American businesses actually fell 1.7% in the third quarter and plunged at an annualized 8.4% rate in the fourth.

Why does that matter to Global Income Edge income investors? Those profits are the fuel for our dividends. If they don’t rise, neither do our payouts.

There have been two big drags on profits lately: oil prices and exchange rates.

With oil prices still hovering around $40, the issue there is pretty straightforward. If it costs a company $35 to produce a barrel of oil, they make a lot less money with oil at $40 then when it was over $100. In some cases, energy profits have been squeezed to the point that some companies have actually had to cut their production because they’re just not making enough for it to be worthwhile.

Since we don’t have any energy companies in our portfolios at the moment, exchange rates are the more pressing concern for us. Over the past couple of years a currency war has been ranging, with central banks around the world slashing interest rates and devaluing their currencies in an attempt to spur growth—cheaper currencies make their goods export good cheaper and more attractive.

 Our own Federal Reserve fired the first salvo in that war when it slashed our own rates to virtually 0% back at the end of 2008, causing the value of the dollar to plunge versus most global currencies.

While there’s been a lot of debate about the wisdom of that move, considering how the U.S. economy has recovered it at least didn’t hurt. It’s no surprise that other central banks would run that play themselves in hopes of replicating our success. Now that the Fed seems mainly focused on raising rates instead of cutting them, that has caused the value of the dollar to soar since mid-2015, gaining 10.5% last year alone. That plays hell with the profits of our multinationals when they convert earnings from weak foreign currencies into strong U.S. dollars.

Now that the Fed has dialed back its rhetoric on rate hikes, with Janet Yellen even saying that negative interest rates aren’t off the table, the dollar’s stellar ascent has finally been arrested.

That means that the profit recession is likely to come to an end sooner rather than later. While it hasn’t had a huge impact on our Global Income Edge portfolios, as profits and earnings have been growing fairly steadily, the strong dollar has undeniably been a drag on that growth for some of our holdings. We should see profit growth accelerating at an even faster clip in the coming months, meaning we could have some generous dividend increases in our future.

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